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The Transport average was down a 100 points on Friday

Posted by Richard640 @ 7:16 on May 16, 2020  
  • A Wall Street expert lays out how the stock market’s ‘downright terrifying’ surge within this crisis may be laying the groundwork for another 32% crash

    “When a new bull market kicks off, high-beta cyclicals, like transportation stocks and financials, usually enjoy upside explosions more powerful than the S&P 500‘s, but that’s not (yet) been the case in this rally,” Doug Ramsey said in a recent note.
  • There is a stark contrast between the stock market’s fierce rally and economic uncertainty.
  • Sectors of the stock market that do well during economic upswings are not keeping up with their historical scorecards during this rally. 
  • Doug Ramsey, the chief investment officer of the Leuthold Group, said their underperformance showed stocks have not yet fully reflected the economy’s pain.
  • Click here for more BI Prime stories

The gulf between the stock market’s performance and the economic reality on the ground widened after the historically bad jobs reportreleased on Friday.

It is possible to rationalize this gap by noting the market is forward-looking by nature. And in this instance, investors are looking ahead to a world in which there’s widespread treatment for the coronavirus. 

But the ongoing rally is not being led by sectors that traditionally move in lockstep with the economy. In other words, when the stock market is truly reflecting a rapid turnaround for the economy, these so-called cyclical sectors are normally in front. 

The fact that they are not leading raises red flags. Doug Ramsey, the chief investment officer of the Leuthold Group, said it was “downright terrifying” that some sectors historically tethered to the early stages of a recovery were being left behind. 

“When a new bull market kicks off, high-beta cyclicals, like transportation stocks and financials, usually enjoy upside explosions more powerful than the S&P 500‘s, but that’s not (yet) been the case in this rally,” Ramsey said in a recent note.

He said the Dow transports have not performed shabbily during this bear-market rally: They gained 29% as the S&P 500 climbed 30% from its recent low. However, these returns pale in comparison to prior bear recoveries: Transports gained nearly 60% in 1987 and 2009 as the S&P 500 rallied 30%. 

One might conclude that this time is different because the transports include American AirlinesDelta Air Lines, and other companies directly affected by lockdowns.

But Ramsey did not analyze them in isolation: Financials are also lagging behind. Only once during the past five bull markets — in 1987 — did the sector lag the S&P 500 during its initial bounce from the lows. It contributed about half the S&P 500’s 30% rally this time around.

The final laggard Ramsey flagged was small caps that do most of their business domestically.

During every bull market since 1987, their Russell 2000 benchmark had gained at least 40% by the time the S&P 500 was up 30%, according to Ramsey. The small-cap index gained 30% in the similar period last month.

Ramsey’s concern about the small-cap cohort is the viability of its cash flows. He estimated that about one-third of them were losing money even before the shock arrived.

‘The stock market punishment doesn’t fit the economic crime’

With the relative underperformance of transports, small caps, and financials in mind, it’s worth noting that technology stocks are the big leaders of this rally. Mega caps like Amazon and Facebook are benefiting from the need to work and connect remotely.

“Beyond that increasingly crowded trend, though, the economically defensive groups are performing far better than they ‘should’ be if a new bull market is really underway,” Ramsey said. “In fact, the bounce in the stodgy Dow Jones Utility Average cleared the +30% mark in half the time needed by the S&P 500!”  

The resilience of defensive sectors, combined with the lagging behind of cyclicals, diminishes the odds that a new bull market has begun, Ramsey said. 

“In short, the stock market punishment doesn’t fit the economic crime,” he said. “We expect it eventually will.”

Ramsey went a step further to envision what the catch-up may look like through a valuation lens. On an equal-weighted basis, the median S&P 500 stock is still historically expensive based on five metrics, including the price-to-earnings and price-to-sales ratios.

“If the median S&P 500 stock traded down to the average valuation seen at the last three bear market bottoms, it would have to decline another 46% from April 30th levels,” Ramsey said. 

He added: “If we play along and assume that valuations bottom at the ‘richest’ levels ever seen at a bear market low, there’s still 32% downside remaining in the median S&P 500 stock.”

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Post by the Golden Rule. Oasis not responsible for content/accuracy of posts. DYODD.